Why China has yet to catch the wave of global responsible investing

A lack of understanding about the importance of ESG and its potential benefits is hampering its adoption among Chinese firms, according to the UN-backed Principles for Responsible Investment organisation

Too few of mainland China’s asset owners and investment managers have embraced the systematic integration of environmental, social and governance (ESG) factors into asset allocation decision making, according to the first China chief of Principles for Responsible Investment (PRI), a body set up to promote sustainable investing.

Insufficient understanding of the merit and importance of responsible investing and a general reluctance by companies to volunteer information on their investment practices could mean missed opportunities to improve risk management and enhance investment performance, said Beijing-based Luo Nan of the United Nations-supported non-profit organisation.

“The major decision makers I have met so far have shown a general conceptual appreciation of the merits of ESG information disclosure and using the information for investment decisions, but their grasp on how they should be executed is far from enough,” Luo told the South China Morning Post in an interview.

“They are concerned that including ESG factors into investment decisions may negatively affect returns and restrict their investments … many also do not feel comfortable disclosing information on their progress on this front.”

The 12-year old PRI is funded by almost 1,900 asset owners and professional investor “signatories” globally with combined assets under management of over US$70 trillion. They include New York-based BlackRock – the world’s largest asset manager, and Japan’s Government Pension Investment Fund, which is the world’s largest pension fund.

PRI signatories pledge to incorporate ESG factors into their investment analysis and decision-making processes, and to require entities they invest in to make disclosures on ESG issues and to report on their progress on implementing the principles of ESG.

PRI only has seven signatories from mainland China, mostly private equity firms, a tiny number compared to over 120 signatories from Asia as a whole and a figure that does not match up with China’s economic clout.

Since stepping into her PRI role in October last year, Luo, who has a background in green project finance, has met senior government officials and leaders at fund management firms, including executives of the China Securities Regulatory Commission, the market regulator, and mutual fund industry body Asset Management Association of China.

“I expect to face many challenges in my job, but since these professionals are receptive to the concept of responsible investment, it is a matter of giving it more time to deepen their understanding of its merits,” she said.

In the last few years, many governments have stepped up regulation on ESG disclosure by public companies as part of efforts to tackle environmental degradation, social inequality and the fallout from poor corporate governance and corruption.

The European Union has some of the world’s most comprehensive rules on ESG disclosure, while Canada, Australia, South Africa, Brazil, Hong Kong and Singapore have imposed ESG disclosure requirements either on a mandatory or “disclose or explain” basis. Requirements in the US are mandatory only for issues related to environmental impact.

In mainland China, corporate social responsibility reports have been mandatory since 2006 for companies in the Shenzhen Stock Exchange 100 Index and since 2008 for constituents of the Shanghai Stock Exchange Corporate Governance Index and for financial sector stock issuers and overseas-listed mainland firms.

These have mainly focused on environmental issues, and after limited success, the China Securities and Regulatory Commission two months ago issued new guidelines requiring listed heavy polluters to give more specific information on emissions, while encouraging all listed firms to voluntarily disclose information on social responsibility and their engagement with stakeholders.

The commission aims to make it mandatory for all listed firms to disclose environmental impact information by the end of 2020, according to Ma Xianfeng, deputy chairman of the green finance committee of the China Society for Finance and Banking, quoted in a report by financialnews.com.cn earlier this month.

Luo noted the lack of emphasis in mainland China on social and governance aspects.

“My personal view is that there is a less than sufficient appreciation of the social and governance aspects and there is not yet a common understanding of what they mean.”

She was referring to a common view in China – including among regulators – that the nation’s socialist policies and ideologies meant that its companies, especially state-backed ones, were already performing well on the social front.

She said her office had conducted seminars to educate stakeholders on responsible investment and to collect their feedback on its development in China, and expected to issue a report on its findings together with a development road map by early April.

Her office has also been helping with the implementation of a pilot project spearheaded by the government-backed China-Britain Green Finance Working Group, through which six Chinese banks and asset management firms and four British ones have committed to disclosing their potential financial exposure to climate change.

“The exercise will see the participants examine their business strategies and investments with regards to their climate exposure, and decide whether they need to adjust them,” Luo said. “The information disclosed will also help regulators assess the potential impact of climate change on the financial system and economy.”